Jack Bogle has made changes inside his personal investment portfolio.
In a news interview last week, the legendary indexer revealed that his 60% allocation to U.S. stocks and 40% to bonds via index funds (VBINX) has shifted to a more conservative asset split of 50/50 in each group.
Bogle is the 86-year old founder of Vanguard Group, the world’s largest mutual fund company.
For most investors, Bogle’s personal asset mix is irrelevant to how their own investment portfolio should be built. (Bogleheads will disagree, but then again, they agree with anything Jack says or does no matter how crazy.)
More importantly, Bogle’s portfolio flunks in at least two crucial aspects: risk and diversification.
Bogle Doesn’t Invest in International Stocks
Why doesn’t Bogle own foreign stocks? His chief argument is that many U.S. conglomerates earn more than 50% of their revenue outside of the U.S. thus giving his portfolio indirect exposure to foreign markets.
However good that may sound, it’s off-center by a lot.
U.S. stocks represent just 52% of the entire global equity market, while non-U.S. equities, including those of developed countries such as Germany, Japan, and the United Kingdom (VEA), plus those of emerging countries such as Brazil, India, and China, (VWO) account for the remaining portion.
Put another way, Bogle’s portfolio misses direct exposure to 48% of the global equity market!
Even Vanguard’s own research on the matter of equity diversification contradicts Bogle’s personal biases.
A research paper produced by Vanguard titled, “Global equities: Balancing home bias and diversification” illustrates the problems with deliberating excluding key areas of the global stock market.
One of the points made by Vanguard deals with how U.S. stock indices are more concentrated in biotechnology, computer equipment, information technology, and software stocks. As a result, investors like Bogle who purposely exclude foreign stocks are underweighted in key industries such as electrical equipment, durable household goods, and automobiles – which all have a greater representation inside foreign stock market indexes.
Vanguard notes, “An all-U.S. portfolio would lose not just investment opportunities but also the diversification benefits of a portfolio that’s more evenly distributed across industries.”
Bogle Lacks Currency and Asset Class Diversification
Aside from having an equity portfolio that’s under-diversified, Bogle’s portfolio deliberately excludes major asset classes like real estate (RWR), commodities (GSG), and cash. Bogle’s portfolio is essentially a two-asset class portfolio with exposure to just U.S. stocks and U.S. bonds.
In truth, authentic diversification is all about having broad exposure to all the major asset classes vs. investing according to self-invented rules that embrace a quasi-diversified viewpoint.
Aside from the benefits of securities diversification, funds and ETFs that own foreign securities also offer currency diversification. This is an automatic feature because the securities held inside these funds are denominated in local currencies, which thereby diversifies U.S. based investors away from the dollar (UUP).
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Because Bogle’s securities exposure is 100% U.S. focused (VOO), his portfolio lacks currency diversification. Although the U.S. dollar is still the world’s reserve currency, an unexpected crash or significant decline in the dollar’s value would inflict severe damage on one-dimensional dollar only portfolios.
Bogle’s 50/50 Split Isn’t Age Appropriate
Although Bogle is comfortable with his 50/50 split between stocks and bonds, it’s not an age-appropriate asset mix for most investors in his age group. That’s because most people in their mid-80s can’t handle the volatility or market risk of a 50/50 portfolio nor do they have a sufficiently long time horizon to recover from a significant market decline. No doubt, Bogle has chosen his 50/50 asset mix with his heirs in mind, but for the typical mid-80s investor they may not necessarily have that same goal or luxury.
Moreover, Bogle’s 50% allocation to bonds for “safety” is erroneous because bonds can and do lose value. For example, when interest rates rise, the value of bonds decreases. This unapologetic truth and math is amplified with bonds that have longer-term durations.
And while it’s true that bond income payments may increase when rates increase, it still doesn’t change the fact that bonds can and do lose value. It makes better sense to use fixed income assets that don’t fluctuate or lose value at all for the part of your portfolio that cannot and must not lose value.
A Word about Simplicity
While Bogle’s idea of a simplified portfolio should be applauded, Albert Einstein correctly observed that “Everything should be as simple as it can be, but not simpler.”
In this regard, Bogle’s 50/50 once again flunks. While simple portfolios are easier to manage, simplicity in the name of investment portfolios that deliberately exclude major asset classes is unacceptable. Likewise, age-inappropriate portfolios along with using assets that have the potential to lose market value like bonds as “safe money” is poor risk management.
The impressive historical performance of the 50/50 portfolio – especially compared to Wall Street’s over-hyped fund managers – is still used by many people as a crutch. But historical performance, as Bogle would admit, tells us nothing about the future. Beware of counting your chickens before they hatch, dear investor.
In the end, the 50/50 portfolio — like it’s 60/40 counterpart — is a great marketing idea. It’s also a sad testament to our devolutionary era of canned and one-size fits all investing.
The investing public deserves something better.
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